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Groceries report: Competition update

02 November 2007

The Competition Commission (CC) produced its provisional findings, on Wednesday 31 October, on the long-running groceries inquiry. This is an “interim” report, and still subject to consultation.

Competition Commission’s provisional findings

The Competition Commission (CC) produced its provisional findings, on Wednesday 31 October, on the long-running groceries inquiry. This is an “interim” report, and still subject to consultation. But it represents the result of over 500 submissions, sixty face-to-face hearings, a whole host of surveys and analysis. The document runs to many hundreds of pages (including detailed annexes). We have summarised some of the key points below. The fact that our summary is itself fairly long, is probably a reflection of the sheer number of issues involved.

Overall, the CC found that the grocery sector suits consumers well by delivering value and convenience. But it had a few concerns over aspects of local competition, and certain elements of supermarkets’ relationship with suppliers. It is consulting on how to address those concerns.
Some of the CC’s provisional findings are as follows…

Defining the market

Competition policy works by assessing dynamics within a series of markets. Market definition in this sector has been a vexed issue because of the big four supermarkets’ increasing presence in the convenience sector.
The CC identified three separate product markets here:
- larger grocery stores (> 1,000 – 2,000 square metres)
- mid sized stores (> 280 square metres)
- convenience stores
Stores compete for customers within local markets – 10 to 15 minutes’ drive time at the most, and less for smaller stores.

The only game in town?

In a number of areas, there are only a few effective competitors. Where local competition is weak, supermarkets have the incentive to “take their foot off the gas” and reduce quality.

Barriers to entry

This has been one of the main areas of focus. The fact that some local markets are “concentrated” would not be a concern if retailers are able to enter or expand to compete in a local market with the incumbent players.
The four largest grocery retailers control a considerable number of “landbank” sites (i.e. sites which could, if released, be used by competitors to create new stores and increase levels of local competition). They own some themselves. They lease others to third parties, or sell them on with restrictive covenants preventing them being used as supermarket sites.
The CC recognised the supermarkets need to have a “pipeline of future development activity”, but they found that control of land remains a competitive constraint. They said that the fact that high levels of local concentration had persisted for at least five years indicated barriers to entry and expansion for larger and mid-size grocery stores.
They also considered the effect of the planning system. They noted that planning has to balance complicated competing priorities. But purely from a competition perspective, they concluded that planning restricts competition by making it harder for smaller retailers and new entrants to get their hands on sites.
Some people had suggested that Tesco is now so large that other retailers could not catch up. The CC found no evidence of this. They said that Tesco’s sheer size was not preventing other retailers continuing to expand.

Convenience stores and smaller retailers

The CC’s inquiry was launched in the first place following a complaint by the convenience stores.
But after examining practices such as local vouchering and below-cost selling (which obviously have the effect of attracting customers away from smaller stores), the CC did not find any evidence that smaller retailers were being targeted in any way beyond the normal competitive process.
Some have argued that the big four’s power to drive down suppliers’ prices has a “waterbed” effect, forcing suppliers to increase prices to smaller retailers to recoup lost margins. The CC found no evidence of this.
It also found that, so far, expansion by the large grocery retailers into convenience stores was not adversely effecting competition.

Coordination between grocery retailers

The CC looked at whether the market was so concentrated that retailers could form a cosy oligopoly by tacitly co-ordinating their behaviour. Again, the CC found no direct evidence of this. But it was concerned that the market structure means this could be a problem in future – particularly if category management programmes are not set up correctly.

Supplier issues

There has long been a concern that supermarkets have too much power over suppliers. The CC analysed a great deal of evidence on the bargaining process. It found that supplier-buyer relationships were necessarily “assertive”. As long as this drives value and quality, it is a normal part of the competitive process. If it goes beyond that, it becomes a problem.
Overall, the CC found “no systemic problems with the financial viability of UK food and drink manufacturers”.
But it did find that future investment by suppliers (in quality new products) would be damaged if supermarkets increased suppliers’ risks and costs by enforcing retrospective payments and other unexpected changes.
The Supermarkets Code of Practice (which followed the Competition Commission’s report in 2000) is designed to prevent the big four supermarkets abusing their buyer power. It has often been criticised by suppliers as vague and practically useless. The CC did recognise certain flaws, but believed the Code is restraining the buyer power of retailers to some extent. It decided to consult on various ways of improving the Code, and enhancing enforcement.
The CC found the sale of own-label products by grocery retailers is not currently damaging competition significantly.

Possible remedies

The CC is considering various ways to address the problems it has identified, including:

Recommending changes to the planning system that would make more land available for development outside the town centre. It has set out a number of detailed suggestions on how this might be done. (Our excellent planning team are preparing a separate note on this aspect – if you want a copy, let us know).
Prohibiting grocery retailers imposing (or enforcing existing) restrictive covenants on land preventing them being used as competing grocery sites.
(In some circumstances) forcing supermarkets to sell off parts of their “land bank” to address local competition problems.
Widening the Supermarkets Code of Practice to cover other retailers (currently, it applies only to the “big four”).
Changing certain aspects of the Code to toughen them up or make them clearer.
Moving enforcement of the Code away from the OFT to another body (perhaps a new “supermarkets ombudsman”).

What next?

The CC wants to receive comments on the provisional findings (by 30 November) and possible remedies (by 23 November). The deadline for the final report is 8 May 2008.

Comment

The CC opens a can of worms each time it looks into this sector. There is no doubt British supermarkets are a success story, and consumers enjoy what they offer. But the CC received a large number of complaints. Many of these (such as health, diversity on the high street and environmental issues) are largely outside its remit. Its power on planning issues is limited to making recommendations to government. Its comment that local competition could be enhanced by freeing up the planning system and encouraging more supermarkets to be set up, is no doubt correct. But it has already lead to complaints from those concerned about the sheer proportion of our overall spending that the supermarkets take.

Even on competition issues, it is very difficult in some cases to balance short term consumer benefits against potential long-term detriment caused by damage to suppliers. The CC’s mantra throughout has been to focus on protecting consumers, rather than competitors or suppliers. The CC’s provisional findings may end up being largely confirmed in its final report. But, even following consultation, it will find it difficult to produce a set of “remedies” which satisfies everyone.

Are any of the issues in this article giving you a headache? If so, we want to know

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